the role of private finance in infrastructure development
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THE ROLE OF PRIVATE FINANCE
IN INFRASTRUCTURE
DEVELOPMENT IN SOUTH
AFRICA – A CRITICAL
ASSESSMENT
18 JANUARY 2021
by Sonia Phalatse
For the Institute for Economic Justice and
Friedrich-Ebert-Stiftung
The role of private finance in infrastructure development in South Africa – A critical assessment Working Paper Series: Number 6. January 2021
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ABOUT THE AUTHOR(S) AND ACKNOWLEDGMENTS
Sonia Phalatse is a researcher at the Institute for Economic Justice where she works on
the Finance for Development programme.
This project was initiated and supported by Friederich-Ebert- Stiftung.
CORRESPONDING AUTHOR:
Sonia Phalatse – sonia.phalatse@iej.org.za
KEYWORDS:
Blended finance; development; de-risked infrastructure; fiscus; investment; public-
private partnerships (PPPs)
RECOMMENDED CITATION
Phalatse, S. (2021). The role of private finance in infrastructure development in South
Africa - A critical assessment. Institute for Economic Justice Working Paper Series, No
6.
ISBN
© Institute for Economic Justice, 2021
For further information contact: info@iej.org.za
The role of private finance in infrastructure development in South Africa – A critical assessment Working Paper Series: Number 6. January 2021
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EXECUTIVE SUMMARY
This paper assesses South Africa’s massive infrastructure drive to revive growth and
increase employment. This comes after years of stagnant growth, and now facing a deep
economic crisis, exacerbated by the COVID-19 pandemic. This drive also comes after
years of weak infrastructure investment, widening the infrastructure deficit. in the
inequalities in infrastructure provisioning are particularly stark in communities where
socio-economic conditions are characterised by over-crowding, deep levels of poverty
and inadequate access to basic public services such as water and sanitation.
The Economic Response and Recovery Plan (ERRP), the economic response plan to
COVID-19, outlines a R1 trillion investment drive, primarily from the private sector
through an Infrastructure Fund over the next 10 years.1 It is envisaged that this Fund will
finance large infrastructure projects that will incentivise private finance by de-risking
infrastructure investments.
Infrastructure projects involve a number of risks, particularly for underdeveloped areas
that require substantial resources. Because of this, the private sector is reluctant to invest
in infrastructure projects that have higher risks than expected returns. The government
has therefore undertaken measures to de-risk infrastructure investments using various
financing instruments that are most commercially attractive to private investors. The
three most prominent de-risking measures include;
blended finance: the use of public and development finance to attract private
sector participation by providing incentives, such as subsidies, revenue
guarantees and capital grants;
converting infrastructure into an asset class: a process where infrastructure
becomes a new asset class through which funds invested in these projects, like
loans, will be repackaged into financial instruments to be traded in the financial
market, and;
public-private partnerships (PPPs),: a highly controversial form of infrastructure
financing, which involves long-term contracts with private partners. PPPs
expected to be substantially ramped up over the next few years. Processes are
1 The South African Economic Reconstruction and Economic Recovery Plan, 2020. [Online] Available: https://www.gov.za/sites/default/files/gcis_document/202010/south-african-economic-reconstruction-and-recovery-plan.pdf
The role of private finance in infrastructure development in South Africa – A critical assessment Working Paper Series: Number 6. January 2021
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also underway to deregulate the PPP framework to make it easier to set-up PPPs
and attract private investors.
The dangers of de-risking
De-risked infrastructure investments have the potential to carry greater costs to the
fiscus than publicly provided infrastructure. This paper discusses three key reasons for
this; first, the government absorbs more risk than it ordinarily would for the sole purpose
of attracting private investment. This occurs through government taking on increased
contingent liabilities, or absorbing high transaction costs and escalating costs as a result
of poor project planning or underestimation of project costs.
Secondly, without strict governance, the government stands the risk of repeating costly
mistakes related to large-scale infrastructure. An illustration of these dynamics is the
Gautrain rail-link system, a PPP which generates revenue mainly from user fees and
where the public sector has also assumed contingent liabilities related to user demand.2
Thirdly, de-risked investments in infrastructure will not lead to developmental outcomes.
Construction of large-scale infrastructural projects have detrimental effects on the local
population and the environment. The current narrative surrounding the Infrastructure
Fund overlooks key historical failures in ‘mega-projects’ that can, and have been, socially
and environmentally damaging.
While infrastructure development in South Africa is much-needed, the emphasis on de-
risking for private sector buy-in overshadows the key role the state must play in leading
the structural transformation of the economy. However, current fiscal consolidation
measures undermine the governments’ ability to do this, and instead will open the
economy to the fiscal risks associated with greater private sector participation. The
current narratives around the Infrastructure Fund overplay the benefits of private capital
and underplays the potential risks that come with public-private arrangements,
underestimating the complexities of governing these relationships appropriately.
2 Aldrete, R. Bujanda, A. and Valdez-Ceniceros, G.A. 2020. “Valuing public sector risk exposure in transportation public-private partnerships”. Finale report for the University transportation centre for mobility. Online [Available]: file:///C:/Users/phalatses/Downloads/dot_18385_DS1.pdf
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TABLE OF CONTENTS Executive summary ...................................................................................................... 3
Table of contents .......................................................................................................... 5
List of Abbreviations ..................................................................................................... 6
1 Introduction ........................................................................................................... 7
2 The international drive for de-risking infrastructure .............................................. 10
2.1 Blended finance ............................................................................................................ 13 2.2 Infrastructure asset classes ........................................................................................... 21 2.3 public-private partnerships (ppps) ............................................................................... 23 2.4 Summary ....................................................................................................................... 25
3 Developing a framework for assessing the potential impacts of de-risked
infrastructure ............................................................................................................... 25
3.1 Infrastructure in South Africa ....................................................................................... 27 3.2 A critical assessment of de-risked infrastructure projects ........................................... 34 3.2.1 Costs and fiscal implications ......................................................................................... 35 3.2.1.1 Additionality .......................................................................................................... 35 3.2.1.2 High Transaction and project costs ....................................................................... 36 3.2.1.3 Contingent liabilities .............................................................................................. 37 3.2.2 Assessing risks ............................................................................................................... 38 3.2.3 Poverty reduction and sustainable development outcomes ........................................ 40 3.2.4 Governance ................................................................................................................... 42
4 Conclusion and recommendations ...................................................................... 44
5 Annexures ........................................................................................................... 47
Annex 3.1: Examples of risks involved in project implementation ......................................... 47 Annex 3.2: PPPs in South Africa and case study ..................................................................... 49
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LIST OF ABBREVIATIONS
CDO Collateralised Debt Obligations
DBSA Development Bank of Southern Africa
DFBOT Design, Finance, Build, Operate and Transfer
DBOT Design, build, operate and transfer
DFI Development Finance Institute
DFO Design, finance and operate
GFCF Gross Fixed Capital Formation
IMF International Monetary Fund
MDB Multinational Development Bank
MDG Millennial Development Goals
MFMA Municipal Finance Management Act of 2003
MSA Municipal Systems Act of 2000
PFMA Public Finance Management Act of 1999
PPP Public-Private Partnership
ODA Official Development Assistance
OECD Organisation for Economic Cooperation and Development
SIDSS Sustainable Infrastructure Development Symposium
SDG Sustainable Development Goals
SOE State-owned enterprise
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1 INTRODUCTION
The South African government is undertaking a massive infrastructure drive in an effort
to revive growth and increase employment. This comes at a time when the country is
facing a deep economic crisis that has progressively worsened over the past few years.
On 3 March 2020, just two days prior to the first recorded official COVID-19 case, it was
announced that the economy was in recession. Gross Domestic Product (GDP)
contracted by 1.4% in the last quarter of 2019, after two previous quarters of recorded
negative growth, and the unemployment rate rose to an all-time high of 38% in 2019.3
The COVID-19 pandemic has worsened the economic crisis in South Africa. Statistics
South Africa reported approximately 2.8 million job losses in the third quarter of 2020.4
Hunger and poverty rates have increased substantially over the six-month lockdown
period – 37% of households reported they ran out of money for food in June 2020, double
that in 2016.5 The International Monetary Fund (IMF) and South African Reserve Bank
predict a 2020 GDP contraction of 8.2% and 8% respectively.6
The infrastructure drive also comes after a long period of weak infrastructure
investments, and a widening infrastructure deficit. This is particularly relevant in rural
areas where socio-economic conditions are characterised by over-crowding, deep levels
of poverty and inadequate access to basic public services such as water and sanitation.
In response to this crisis, the government has tabled two key measures aimed at
reaching a budget surplus within the next five years. First, with debt levels increasing
substantially, not least because of increased debt triggered by the pandemic, the
government remains committed to closing the budget deficit and stabilising the national
debt-to-GDP ratio; total non-interest expenditure cuts between 2020 to 2024 is expected
to total R300 billion (about $ 18 billion).7 Second, these austerity measures have
rationalised the need to source finance from outside the fiscus to meet socio-economic
and infrastructure development goals. The government's plan is to mobilise up to R1
3 Using the expanded definition of unemployment. 4 Statistic South Africa, 2020. Online [Available]: http://www.statssa.gov.za/?p=13633. 5 Bridgman, Van der Berg, Patel. 2020. Hunger in South Africa during 2020: Results from Wave 2 of NIDS-
CRAM. 6 IMF website page profile of South Africa’s economy, last accessed 30 October. [Online] Available:
https://www.imf.org/en/Countries/ZAF. 7 National Treasury, 2020. Medium Term Budget Policy statement. [Online] Available:
http://www.treasury.gov.za/documents/mtbps/2020/mtbps/FullMTBPS.pdf.
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trillion in financing from the private sector through an Infrastructure Fund over the next
10 years.8 It is envisaged that this Fund will finance large infrastructure projects that will
incentivise, or leverage, private finance by de-risking infrastructure investments.
This paper tackles the latter measure relating to the Infrastructure Fund. The paper
sheds light on the complexities of greater private sector, and specifically private capital,
participation in infrastructure development. The South African government needs to
address the deep inequalities in infrastructure provisioning. Infrastructure projects
involve a number of risks, particularly for underdeveloped areas that require substantial
resources. Because of this, the private sector is reluctant to invest in infrastructure
projects that have higher risks than expected returns. Governments have therefore
undertaken measures to de-risk infrastructure investments using various financing
instruments that are most commercially attractive to private investors. The three most
prominent de-risking measures will be the focus of this paper:9
1. Blended finance: the government intends to leverage private finance by providing
concessional finance from development finance institutions. These blended
finance instruments can take various forms, wherein the government
supplements private sector participation by providing incentives, such as interest
rate subsidies, revenue guarantees, and capital grants.
2. Converting infrastructure into an asset class: infrastructure will become a new
asset class wherein funds invested in infrastructure projects, like loans, will be
repackaged into financial instruments to be traded in financial markets.
3. Public-private partnerships (PPPs): an already established method of
infrastructure financing in South Africa, PPPs are expected to be substantially
ramped up over the next few years. Processes are underway to deregulate the
PPP framework to make it easier to set-up PPPs and attract private investors.
We contextualise this current drive for infrastructure investment within the broader
international development landscape, which has seen the proliferation of private sector
8 The South African Economic Reconstruction and Economic Recovery Plan, 2020. [Online] Available:
https://www.gov.za/sites/default/files/gcis_document/202010/south-african-economic-reconstruction-and-recovery-plan.pdf.
9 The research methodology used in this paper is mostly from secondary data sources, however several interviews were conducted with key stakeholders who have been immensely helpful in informing the research.
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involvement in numerous facets of development over the past decade, including as the
sole legitimate partner in bridging the global infrastructure gap. Multinational
development banks, such as the World Bank, have been at the forefront of promoting
the use of blended finance and PPPs to achieve the SDGs by 2030. Other international
initiatives, such as, the G20’s Roadmap to Infrastructure as an Asset Class also
advances a greater role for private capital, particularly from institutional investors. In
South Africa, local development banks, such as the Land Bank and the Development
Bank of Southern Africa (DBSA), have joined forces with the government to provide
concessional capital to leverage private finance for developmental purposes.
This paper critically assessed the potential impacts of de-risking infrastructure based on:
potential costs to the fiscus; risk allocation to the government; governance and poverty
reduction; and sustainable development outcomes. The paper finds that there is an
urgent need for a unified, coherent governance framework that prioritises developmental
impacts and regulates greater private participation in infrastructure development. More
needs to be done by involved stakeholders – government, development finance
institutions (DFIs) and private actors – to ensure that all processes are open and
transparent, given that the Infrastructure Fund has a clear developmental mandate. We
question the governments’ focus of investing primarily on large-scale ‘bankable’ projects,
as these projects often yield high profits for private actors at the expense of smaller-
scale investments that may have greater developmental impacts. Such mega-
infrastructure projects tend to have damaging social and environmental implications, and
detract from much-needed social infrastructure in areas and communities that need them
the most.
The structure of the paper is as follows. Section 2 outlines the international landscape,
and provides an overview of the key organisations involved in catalysing private
investment in global development. Section 3 describes the infrastructure deficit in South
Africa and then gives a critical assessment of PPPs as a key mechanism of infrastructure
development in South Africa and provides an analysis of blended finance and
infrastructure as an asset class as applied in the context of a developing country like
South Africa. The final section provides recommendations and concluding remarks.
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2 THE INTERNATIONAL DRIVE FOR DE-
RISKING INFRASTRUCTURE
There is no question that it will take substantial resources to achieve the Sustainable
Development Goals (SDGs). The estimated cost for lower- to middle-income countries
will be upwards of $1.5 trillion to $2 trillion per annum between 2015 and 2030.10 This
will be made worse as countries redirect resources to recover from the COVID-19
pandemic. The required resources include developing sustainable infrastructure, in the
context of increased efforts to curb climate change. The Organisation for Economic
Coordination and Development (OECD), for example, estimates that total global
infrastructure investment requirements by 2030 for transport, electricity generation,
transmission and distribution, water, and telecommunications to be over $71 trillion until
2030.
The response by development institutions and member countries has been the centring
of private financing, particularly from institutional investors, ranging from public-private
partnerships (PPPs) to the securitisation of infrastructure into an asset class. The OECD
adds that, “there is a widespread recognition that governments cannot afford to bridge
these growing infrastructure gaps through tax revenues and aid alone, and that greater
private investment in infrastructure is needed”.11 This agenda is encapsulated in key
development initiatives including, but not limited to, the World Bank’s Billions to Trillions
agenda and its Maximizing Finance for Development (MFD) initiatives, as well as the
G20’s Infrastructure as an asset class roadmap document. The key proposition is that
the mobilisation of substantial private savings – estimated at over $12 trillion – from
global institutional investors, like pension funds and insurance companies, can both
finance and profit from investments in strategic infrastructure.
This turn to private sector-led development represents a shift in international
development from public financing – the focus of the Milllenial Development Goals
(MDGs) – to global private finance as critical to achieving the SDGs. A key outcome
10 Vorisek, D. and Yu, S. 2020. “Understanding the cost of achieving the Sustainable Development
Goals”, Policy Research Working Paper, 9146. Online [Available]: http://documents1.worldbank.org/curated/en/744701582827333101/pdf/Understanding-the-Cost-of-Achieving-the-Sustainable-Development-Goals.pdf.
11 OECD, 2015. “Fostering Investment in Infrastructure: Lessons learned from OECD Investment Policy Reviews.” Online [Available]: https://www.oecd.org/daf/inv/investment-policy/Fostering-Investment-in-Infrastructure.pdf.
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arising from this shift is a ‘private finance first’ approach to infrastructure financing. It
sees the crowding-in of global finance as sine qua non to meeting SDG targets. This is
achieved by re-engineering financial markets through the creation of investable markets
and assets (like infrastructure) on behalf of private capital and embeds de-risking as the
key avenue for private investment.12 It encourages governments to change the policy
and regulatory environment to create more favourable conditions for private
investments.13 For example, in South Africa, processes are currently underway to amend
Regulation 28 of the Pension Fund Act to accommodate private retirement funds to
invest in alternative asset classes, such as infrastructure asset classes.14 Regulation 28
has no provisions for infrastructure projects, and limits total investment in particular asset
classes to 10%. These asset classes include alternative, mostly unlisted, investments in
private equity, hedge funds, and unlisted property. The key proposal underway is to
increase this cap to 15% to accommodate greater investments in alternative
infrastructure private equity investments.
These private-first dynamics are encapsulated in the ‘cascade’ approach by the World
Bank – see Figure 2.1 – whereby private sector investment in infrastructure is
institutionally prioritised and embedded through reforms, and the creation of new
markets for de-risked instruments. It side lines public financing and systemises the
necessary conditions for the ease of private flows.15 Risks and regulatory gaps are
bypassed by use of de-risking methods, paving the way for institutional investors to
invest in more speculative capital, such as trading derivatives on the stock markets.
12 Gabor, D. 2020. “The Wall street consensus”. Online [Available]:
https://osf.io/preprints/socarxiv/wab8m/. 13 Griffith, J. and Romero, M,R, 2018. Three compelling reasons why the G20s plan for an infrastructure
asset class is fundamentally flawed. Eurodad report. 14 Jooste, R. and Planting, S. 2020. “Laying down the foundation for pensions to fund infrastructure spend”
Business Maverick. Online [Available]: https://www.dailymaverick.co.za/article/2020-07-15-laying-down-the-foundation-for-pensions-to-fund-infrastructure-spend/ (last accessed: 11 November 2020)
15 Gabor, D. 2020. Gabor, D. 2020. “The Wall street consensus”. Online [Available]: https://osf.io/preprints/socarxiv/wab8m/.
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FIGURE 2.1: THE WORLD BANK’S CASCADE APPROACH TO INFRASTRUCTURE INVESTMENT
Source: Gabor, 2020.
Proponents of the cascade approach argue that the creation of infrastructure financial
instruments will match the long-term financing needs of these types of lengthy projects
with institutional investors’ appetite for long-term assets. However, once these assets
are traded on secondary markets, there is no guarantee that they will only be held by
long-term investors.16 Asset managers with shorter-term or more speculative investment
strategies, such as hedge funds or private equity funds, will find it easier to enter and
exit these financial instruments with less regulatory restrictions. This inherent instability
and volatility of short-term financial market trading will not translate into sustainability of
project financing.17
The cascade approach further embeds the notion that drawing on private financing
allows the government to preserve limited fiscal resources while focusing on
development needs, as justified by fiscal consolidation measures. We see the
16 Müller, J. 2015. "Harnessing Private Finance to Attain Public Policy Goals ? How Governments Try to
Involve the Private Sector in Times of Austerity and What Risks This Entails.” Centre for Research on Multinational Corporations.
17 Ibid.
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popularisation of the de-risking narrative in South Africa as the country undergoes
extensive budget-reducing measures over the next five years.18 Blended finance, for
example, features as a key investment mechanism of the newly-established
Infrastructure Fund. In the press statement for the signing of the Memorandum of
Agreement for the Fund, it is noted that: “Blended finance includes financing from the
local capital market and international financing institutions as a complement for broader
budgeting reforms that the government is undertaking to address problems in the
infrastructure value chain.”19 De-risking infrastructure has also featured strongly as a
vehicle for job creation and as a vital part of the COVID-19 economic recovery. Through
the creation of the Infrastructure Fund, the government has included blended financing
mechanisms, PPPs, and infrastructure asset classes as a means to catalyse up to R1
trillion (about $61 billion) of investment from institutional investors over the next decade.
There are also concerted attempts to reconfigure the regulatory framework for these
mechanisms. For example, through loosened regulations on PPP procurement and the
de-regulation of the Pension Funds Act to allow for investments in infrastructure asset
classes.
In the next sections, we provide an overview of the suggested de-risking instruments,
this will serve as a basis for understanding its potential implications, which will be
discussed in Section 3.
2.1 BLENDED FINANCE
2.1.1 DEFINITIONS AND METHODOLOGY
Despite growing interest in blended finance, there is no single, unified definition, or
common framework. This means that there are different methods that define how much
private finance has been mobilised under blended finance projects. This has serious
implications for transparency of process, data collection, and project accounting.20 In the
18 Medium Term Budget Policy Statement, 2020. 19 Memorandum of Agreement: DBSA’s mandate to establish and manage the Infrastructure Fund. Media
Statement, [Online] Available: http://www.treasury.gov.za/comm_media/press/2020/20200817%20Media%20Statement%20-%20Memorandum%20of%20Agreement%20DBSAs%20Mandate%20to%20establish%20and%20manage%20the%20Infrastructure%20Fund.pdf.
20 Bayliss et al., 2020. “The use of development funds for de-risking private investment: how effective is it in delivering development results?” European Parliament Think Tank. Online [Available]:
https://www.europarl.europa.eu/thinktank/en/document.html?reference=EXPO_STU(2020)603486.
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case of the South African government, it is promised that the Infrastructure Fund will
mobilise substantial private capital over the next ten years, but without a framework that
identifies good practices and sound project accounting, it will be difficult to hold the
government, and partners to this promise.
The term ‘blended’ often describes the mixture of public and private financing. However
different institutions have various understandings of what ‘public finance’ should be
leveraged depending on interpretation and data collection methods. For example,
Convergence Finance,21 a global network for blended finance, defines blended finance
as the “use of catalytic capital from public or philanthropic sources to increase private
sector investment in sustainable development,” while also acknowledging that, “there
are as many as 15 blended finance definitions publicly available, which collectively
describe blended finance as a mechanism, approach, instrument, and asset class”.22
Convergence’s definition restricts ‘catalytic capital’ to refer to concessional financing
from public or philanthropic institutions.
Comparatively, the OECD defines blended finance differently as ”the strategic use of
development finance for the mobilisation of additional finance towards sustainable
development in developing countries”.23 This definition emphasises the use of
development finance which does not preclude a broader range of financial sources, such
as, philanthropic finance, Official Development Assistance (ODA) and MDB finance. This
definition aligns with the current narrative of blended finance within the Infrastructure
Fund; in a document written for the Sustainable Infrastructure Development Symposium
(SIDSS) hosted in June, the Department of Public Works defines blended finance as,
”combining capital from the public and private sectors, development finance institutions
and multilateral development banks”.24 It lists potential concessional finance contributors
from DFIs such as the China Development Bank, the World Bank, and the New
Development Bank.
21 See Convergence website on https://www.convergence.finance/ 22 Convergence, 2020. The state of blended finance report 2020, page 44. 23 https://www.oecd.org/dac/financing-sustainable-development/blended-finance-principles/ 24 SIDSS, 2020.
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2.1.2 PROJECT STRUCTURES FOR BLENDED FINANCE
Blended finance transactions can be structured to create favourable risk-returns in a
variety of ways. These are summarised in Table 2.1 which shows examples of blended
finance instruments. The OECD acknowledges that despite the different ways blended
finance can be structured, donor countries have relied “on instruments that traditionally
have been used in aid programmes such as grants, loans and guarantees”.25
TABLE 2.1: BLENDED FINANCE INSTRUMENTS
De-risked, blended
instrument
Description
Technical and advisory
assistance
Public finance covers transaction costs, impact studies,
and other advisory costs to strengthen the commercial
viability of the project.
First-loss guarantees to
lenders / Senior debt
guarantees
Senior debt guarantees are loans secured by collateral
(assets) that must be paid off before any other debts when
a company goes into default. Their priority position makes
senior debts less risky for private investors (when the
government takes on junior debt which only has a
secondary claim on company assets). As a result, the
interest rates and repayment terms for senior debt tend to
be more favourable than junior debt. Junior debt is debt is
lower on the debt hierarchy than other debt claims. It is
provided without any collateral to back it and is often
subject to a creditor agreement with the senior lender.
Investment grants Capital transfers in cash or in kind made by governments
to private investors to finance all or part of the costs of
their acquiring fixed assets.
25 OECD website for blended finance. [Online] Available: https://www.oecd.org/dac/financing-sustainable-
development/blended-finance-principles/.
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Equity investments Institutional investors take a percentage of the ownership
of the project.
Syndicated loans A syndicated loan is one that is provided by a group of
lenders and is structured, arranged, and administered by
one or several commercial banks or investment banks
known as lead arrangers. DFIs and national governments
can join loan financing with a commercial lender, which
reduces interest rates for private investors.
Credit lines Credit lines are a specific form of debt instrument.
Development banks extend credit facilities to local
financial institutions (LFI) in developing countries, that
LFIs can draw down (or repay) as needed, with the aim of
increasing access to finance for particular borrower
segments like small enterprises.
Guarantees Development banks provide guarantees to private
investors for risks such as non-payment (guaranteeing
revenue) and interest rate changes.
Source: Pereira, 2017.26
While blended finance is a nascent mechanism in South Africa, globally these
investments have increased in size and geographical scope. The OECD reported that
the amount of private finance mobilised through such mechanisms between 2012 and
2017 was $157.2 billion. Between 2017 and 2018 total global private finance mobilised
increased by 28% to $48.5 billion. Of this, guarantees accounted for 39% of private
finance mobilised from development finance interventions. Figure 2.2 shows the most
used mechanism was guarantees followed by equity and syndicated loans.
26 Pereira, 2017. Blended finance: What it is, how it works and how it is used. Oxfam report. [Online]
Available: https://oxfamilibrary.openrepository.com/bitstream/handle/10546/620186/rr-blended-finance-130217-en.pdf?sequence=1.
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FIGURE 2.2: OECD PERCENTAGE OF MOBILISED FINANCE, 2012-2017
Source: OECD, 2019.
Sub- Saharan Africa (SSA) is a key target market for blended finance. According to
Convergence, 37% of blended finance transactions between 2016 and 2018 were
conducted in SSA, compared to just 3% in Europe and Central Asia (combined) and 17%
in South Asia (see Figure 2.3). An ODI report on blended finance in low-income countries
found that about 73% of institutional commitments to blended finance went to SSA
between 2013 and 2017.
FIGURE 2.3: CONVERGENCE BLENDED FINANCE MOBILISED PER REGION SOURCE:
NATIONAL TREASURY BUDGET REVIEW 2019
Source: Convergence Finance, 2019.
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Despite numerous promises by development institutions on the magnitude of private
finance that can be mobilised, blended finance is not raising the scale of private
investment anticipated. From Figure 2.3, we see that blended finance transactions have
declined in most regions between 2010 and 2018. In its 2019 annual report on blended
finance, Convergence acknowledge that they ”do not see evidence that blended finance
is scaling at an efficient rate”.27 Similarly, ODI argues that mobilising ‘billions-to-billions’
is more plausible than the prevailing ‘billions-to-trillions’ narrative articulated by the World
Bank. Research by ODI also shows that while there have been successful blended
finance initiatives by MDBs and DFIs, these have fallen from an annual average of $37
billion between 2008 to 2014 to just $13 billion between 2015 and 2017 and are not
mobilising at anything like the scale required or anticipated.28
An added concern is that blended finance is most prominent in areas where the business
case is clearer – such as energy and infrastructure, compared to less commercially
attractive areas in social sectors.29 Figure 2.4 (below) shows the portion of blended
finance deals made for every sector. Energy is the highest sector at 30%, compared to
education and health, which account for 9% combined. This sectoral distribution of
finance reflects the private partners’ interests in the potential profits from the
comparatively larger scale of economic infrastructure.30
27 Convergence Finance, 2019. The state of blending, page 45. 28 Bayliss et al., 2020. 29 See Financing for Development: Progress and Prospects. Report of the Inter-agency Task Force on
Financing for Development 2017 (United Nations publication, Sales No. E.17.I.5), p. 19. Available from https://developmentfinance. un.org/sites/developmentfinance.un.org/files/Report_IATF-2017.pdf.
30 Attridge, S. and Engen, L. 2019. Blended finance in the poorest countries. ODI report.
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FIGURE 2.4: BLENDED FINANCE TRANSACTIONS TARGETING SSA BY SECTOR
Source: OECD, 2019.
Blended finance in infrastructure has also over-shadowed other investments in less
commercially attractive sectors of the SDGs. In Figure 2.5, Convergence’s latest blended
financing estimates show that investments in SDG 9 (industry, innovation and
infrastructure), for example, has substantially more committed total capital between 2014
and 2019 compared to other SDG goals like SDG 5 (Gender Equality) and SDG 4
(Quality Education).
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FIGURE 2.5: BLENDED FINANCE TRANSACTIONS AGGREGATED ACCORDING TO SDGS
(2014 – 2019)
Source: Convergence, 2020.
Despite data limitations and a fragmented framework for accounting, we are able to draw
two key conclusions relevant to this study. First, despite global interest and the prevailing
upbeat narrative, blended finance may not mobilise the expected private finance at the
expected scale. Interest in blended finance from the private sector is not homogenous
across sectors. Second, private investors are reluctant to invest in high-risk ‘social’
infrastructure projects – such as services that require low-cost user charges – and focus
primarily on investing in ‘economic’ infrastructure projects that have a better investment
case.31 While investment in economic infrastructure is much needed, this observation
points to the objectives of private capital, which is profit maximisation and not achieving
developmental outcomes.
31Bayliss, et al., 2020. “Unpacking the Public Private Partnership Revival Unpacking the Public Private
Partnership Revival.”
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2.2 INFRASTRUCTURE ASSET CLASSES
Transforming infrastructure into an asset class requires repackaging finance invested in
an infrastructure project (like a loan) into tradeable financial instruments to be bought
and sold on the market. An asset class is a type of investment that has similar
characteristics, such a profit and risk profiles, and behaves on the financial market in a
similar manner.32 The classification of different asset classes assists investors to
diversify their investment portfolios, which allows them to reduce risk and increase the
likelihood of profits. Asset classes traditionally include securities (stocks, bonds,
derivatives, etc.) and cash, real estate, and raw materials (for example, precious metals).
Infrastructure investments are increasingly treated as a new, or alternative, asset class,
providing new sources of profits and greater risk diversification.
The rights to the repayment of the infrastructure loan are pooled with other similar loans
and transferred to a separate legal entity (a special purpose vehicle or SPV) that issues
securities (or bonds) to the capital market. Subsequently, insurance companies in this
market credit-rate the securities based on different risk appetites, called tranching.
Tranching determines the priority of payment of principal and interest from the underlying
loans, and therefore carry different interest rates. Figure 2.6 provides an illustration of
the dynamics of making infrastructure into an asset class. The AAA rated tranche (senior
debt) has priority of payment over subordinated debt and junior tranches, and yields a
lower interest rate to match its (relatively) safer profile, a process of debt classification
known as Collateralised Debt Obligations (CDOs).33 CDOs are structured products that
purchase and pool tradable assets such as the riskier tranches of assets, to then issue
securities in tranches that can, in turn, be repackaged. The aim is to recycle those
tranches that cannot be easily sold to investors into higher-rated products.34 After the
securities are tranched, they are then sold to institutional investors, where returns are
derived from trading the securities on the financial market.
32 Griffiths, J. and Romero, M.J. 2018. “Three compelling reasons why the G20’s plan for an
infrastructure asset class is fundamentally flawed”, Eurodad report.[Online] Available: http://d3n8a8pro7vhmx.cloudfront.net/eurodad/legacy_url/2348/1546931-three-compelling-reasons-why-the-g20-s-plan-for-an-infrastructure-asset-class-is-fundamentally-flawed-1533475091.pdf?1594238982.
33 Gabor, D. 2019. “Securitisation of sustainability”. [Online] Available: https://us.boell.org/sites/default/files/gabor_finalized.pdf.
34 Ibid.
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FIGURE 2.6: BASIC MECHANISM OF MAKING INFRASTRUCTURE INTO AN ASSET CLASS
CDOs, and the securitisation of asset backed securities more broadly, played a central
role in the events leading up to the 2007/8 financial crisis, given the inherent riskiness of
these financial products. By combining the risk from debt instruments, CDOs make it
possible to recycle risky debt into AAA-rated bonds that are incorrectly considered safe
for long-term investors such as retirement funds. During the 2007/8 financial crisis, this
encouraged the issuance of subprime, and sometimes subpar, mortgages to borrowers
who were unlikely to make good on their payments.
Infrastructure asset classes can also be further de-risked through blended finance
mechanisms by, for example, public-guaranteed revenue to investors. In theory, asset
bonds are repaid using income from a project, but because infrastructure projects often
take a long time to complete, repayments would need to start well before income begins
to flow, which a government or DFI could step in to de-risk. This is most relevant to
investments in particularly high-risk sectors, such as rural roads and water or sanitation,
which will yield little or no commercial income, requiring government intervention.
This complex system of the securitisation of large infrastructure investments, embedded
within a global system of newer and riskier financial products, raises many concerns
around regulation and financial stability. As more assets are merged and split, the risks
this carries grows, and the practice of making CDOs, and securitisation more broadly,
become more elaborate and difficult to regulate. This has also seen the emergence of
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more unregulated financial activities, termed shadow banking, which promotes
unregulated predatory market transactions, and greater financial market fragility.
This has implications for the sustainability of financing for large-scale infrastructure that
have a developmental agenda. Fiscal resources in developing countries risk been used
to make these products attractive to private capital.35 Greater private finance, with more
financial engineering practices, in infrastructure exposes governments, already lacking
in capacity, to greater risk of corporates exploiting potential loopholes created in these
processes. Research by World Customs Organisations, for example, show how one of
the primary methods of illicit financial activities in developing countries is a result of trade
misinvoicing by corporations that deliberately misreport the value, quantity, or nature of
goods and services in order to evade taxes, take advantage of tax incentives, avoid
capital controls, or launder money.36
2.3 PUBLIC-PRIVATE PARTNERSHIPS (PPPs)
The turn to private finance has also seen the promotion of PPPs, a highly contested and
controversial form of infrastructure financing. In the United Kingdom, for example, PPPs,
in their entirety, were officially abolished from policy because of their high fiscal risks and
resultant costs to the taxpayer.37
Despite the surrounding controversy, the South African government has doubled down
on PPP-led service delivery. The recent Economic and Reconstruction Plan, the
government’s proposal to revive the economy, notes:
efforts will be strengthened to attract private sector investment in the delivery of
infrastructure as part of building broad-based Public, Private Partnerships (PPP). This
will include a review of the Public Finance Management Act (PFMA) and the Municipal
Finance Management Act (MFMA) to facilitate PPPs.38
35 Bayliss and Van Waeyenberge, 2019. 36 World Customs Organisation, 2018. “Illicit financial flows via trade misinvoicing” Online [Available]:
http://www.wcoomd.org/-/media/wco/public/global/pdf/media/newsroom/reports/2018/wco-study-report-on-iffs_tm.pdf?la=en.
37 Davies, R., 2018. “Hammond abolishes PFI contracts for new infrastructure projects”, The Guardian.
Online [available]: https://www.theguardian.com/uk-news/2018/oct/29/hammond-abolishes-pfi-contracts-for-new-infrastructure-projects.
38 The South African Economic Reconstruction and Recovery Plan, 2020. Online [Available]: https://www.gov.za/sites/default/files/gcis_document/202010/south-african-economic-reconstruction-and-recovery-plan.pdf.
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Similar to blended finance, there are a number of official definitions of PPPs, and there
is no universally agreed definition or framework that governs their limits. They are
generally characterised by long-term contracts between the public and private sectors,
often in support of large, capital-heavy projects, such as the provision of infrastructure
assets. According to the South African National Treasury Regulation of PPPs, a PPP is
defined as,
a contract between a government institution and/or municipality and a private party where
the private party performs an institutional function and/or uses state property in terms of
output specifications, according to which substantial financial, technical and operational
risks are transferred to the private party, while the private party benefits through the
unitary payment from a government budget and by receiving user fees.39
PPP arrangements take various forms, based on the contractual arrangements involved
and the specified allocation of risk over a specified time period. In this sense, they vary
in degree of the private sector involvement. On the one end of the spectrum, there is full
responsibility of the public actor for the provision of the public asset or service; at the
other end, there is full responsibility of the private actor. Ideally, a PPP usually falls
somewhere in-between of these extremes, as a way to more evenly share the risk.
However this is often not the case in practice.40 First, they tend to carry high costs and
lock-in governments into long-term contracts that are difficult to alter.41 PPPs are seen
as attractive to governments because they are considered off-balance sheet transactions
for projects it takes several years to be implemented (this is defined as a contingent
liability). However, contingent liabilities encourage policymakers to carry out projects that
may not be affordable, even in the medium to long-term. In the event that the PPP fails,
it will require the public participant to reimburse the private sector, which often carries
high costs. Regardless, the potential costs of PPPs are often socialised in the event of
failure, and privatised in the event that it succeeds.
Second, PPP contracts are complex to negotiate and implement, and contractual terms
are often not open to the public. Large-scale infrastructure projects, which already carry
39 National Treasury. South African Treasury Regulation 16 (2004). 40 UNCTAD policy note. Investment Policy Hub. Online [Available]:
https://investmentpolicy.unctad.org/pages/27/what-are-ppps. 41 Eurodad, 2018. “History RePPPeated: How Public Private Partnerships are failing”. Online [Available]:
https://d3n8a8pro7vhmx.cloudfront.net/eurodad/pages/508/attachments/original/1590679608/How_Public_Private_Partnerships_are_failing.pdf?1590679608.
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governance difficulties, result in poor planning and a lack of capacity of public officials to
oversee projects. This is heightened under PPP arrangements because of their
complexity and lack of transparency. Research from ten PPP case studies from several
countries by Eurodad, for example, shows thatall PPPs required lengthy (re)negotiations
due to the complexity of contracts.42
Third, they are often criticised for not catalysing investments in projects with high social
impact and lower financial returns. Like blended finance, private investors are concerned
with the best commercially viable project, which are often at odds with developmental
impacts.
2.4 SUMMARY
In Section 2, we described the various de-risking investments underpinned by South
Africa’s latest infrastructure drive. In all three mechanisms, it is envisioned that limited
public resources will be used to catalyse private capital investment. However, these
mechanisms are not without risk. In the next sections, we delve deeper into the
infrastructure landscape in South Africa and assess the potential impacts of these
mechanisms.
3 DEVELOPING A FRAMEWORK FOR
ASSESSING THE POTENTIAL IMPACTS OF
DE-RISKED INFRASTRUCTURE
The following section provides an overview of the state of infrastructure financing in
South Africa and outlines the key challenges to infrastructure development. This will
inform a critical assessment of the potential impacts of de-risked infrastructure and its
effectiveness in providing equitable access to adequate infrastructure. We draw on the
framework adopted by Romero43 to determine whether de-risked projects will deliver their
42 Eurodad, 2018. “History RePPPeated – How Public-Private Partnerships are failing”. Online Available:
https://www.eurodad.org/historyrepppeated.
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potential benefits as outlined in the Infrastructure Fund terms of references.44 This
framework was originally developed specifically for a systemic assessment of the
effectiveness of PPPs. However, it can be generalised to include other forms of de-risked
public-private contracts, such as those underpinned by blended finance instruments,
discussed in Section 2.
The framework includes the following four components in its assessment of de-risked
infrastructure projects:
Fiscal implications: assessing the potential costs and fiscal implications of de-risked
infrastructure investments. Given that the government is tasked with under-writing
infrastructure, this could leave it shouldering most of the costs through high project costs
and increased contingent liabilities.
Risk assessment: assessing the risks undertaken by the government, in inherently risky
large-scale infrastructure projects, when it absorbs more risk to attract private
investment.
Poverty reduction and sustainable development outcomes: assessing the
sustainable development impacts of de-risked infrastructure and whether these
investments have the potential to contribute to reducing poverty.
Governance systems in place: assessing the institutional frameworks in place that
entrenches (or not) transparency and accountability.
The analysis finds that de-risked infrastructure investments have the potential to carry
greater costs to the fiscus than publicly provided infrastructure. It also outlines the
potential for other weaknesses, such as low poverty-reduction and poor development
outcomes, and dangers to governance. This is mainly for two key reasons:
1. The government absorbing more risk than it ordinarily would in order to attract
private investment and replace its own declining public investment in
infrastructure; and
44 Romero, M.J. 2015. “What lies beneath? A critical assessment of PPPs and their impact on sustainable
development.” Eurodad. Online [Available]: https://d3n8a8pro7vhmx.cloudfront.net/eurodad/pages/167/attachments/original/1587578891/A_critical_assessment_of_PPPs_and_their_impact_on_sustainable_development.pdf?1587578891
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2. Without sound, strict governance measures put in place, throughout the project
life-cycle, the government stands the risk of repeating mistakes related to large-
scale infrastructure. In the government’s efforts to attract private investors, it is
important that the government adhere to high transparency standards.
3.1 INFRASTRUCTURE IN SOUTH AFRICA
Infrastructure plays a prominent role in economic policy in South Africa. The National
Development Plan (adopted in 2011), for example, sets out an ambitious goal to achieve
an infrastructure investment level of 30% of GDP by 2030.45 Most of the government’s
industrial policies centre infrastructure investment as a vital driver of growth and job
creation. In the 2020 Supplementary Budget, tabled three months after the national
lockdown triggered by COVID-19, the National Treasury reaffirmed that infrastructure
spend will play a pivotal role in spurring the post-COVID-19 economic recovery through
reforms that would catalyse greater investments from the private sector.
This emphasis comes in the context of low levels of gross fixed capital formation (GFCF)
over the last three decades, with public investment being half of what it was in much of
the 1960s, 1970s, and 1980s. In 2019, GFCF stood at just over 18% of GDP. This
compares poorly with average GFCF for middle-income countries of around 30-35%.
Figure 3.1 shows that public investment has declined since the late 1980s, while private
investments have remained consistent at between 10 to 16% overtime.
45 National Development Plan NDP, 2011. [Online] Available:
https://www.gov.za/sites/default/files/gcis_document/201409/devplan2.pdf.
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FIGURE 3.1: PUBLIC AND PRIVATE INVESTMENT IN INFRASTRUCTURE IN SOUTH AFRICA
Source: National Treasury, 2019.
To date, large-scale, ‘mega-infrastructure’,46 projects have featured as a hallmark of
infrastructure investment, which have often come with high cost overruns and late
completion.47 A majority of these projects have involved some form of private sector
participation – such as the Gauteng Improvement Project, the Gautrain Rapid Rail Link
System, and the Kusile and Medupi coal power plants. They reveal weak project
management and poor governance in overseeing these large-scale projects. The time
and cost overruns on the Kusile and Medupi coal power plants provide an indication of
the degree to which mismanaged mega projects can negatively impact the economy
through high debts burdens. The two projects have failed to resolve the energy shortfall
that they were planned to address, resulting in severe costs to the economy. This has
caused severe damage to economic growth due to the resultant rolling blackouts, left
Eskom reliant on a three-year, R128-billion government bailout to remain solvent, and
has placed the sovereign balance sheet at risk.48
46 According to the Oxford Handbook of Megaproject Management (2016), edited by Bent Flyvbjerg
founding Chair of Major Programme Management Saïd Business School, University of Oxford, "Megaprojects are large-scale, complex ventures that typically cost $1 billion or more, take many years to develop and build, involve multiple public and private stakeholders, are transformational, and impact millions of people" (page 2).
47 Ricardo Reboredo (2019) A panacea for development? Megaprojects and the construction of state legitimacy in post-apartheid South Africa, African Geographical Review, 38:3, 240-252, DOI: 10.1080/19376812.2019.1589734.
48 Phalatse, S. 2020. “Eskom: roots of a crisis and avenues for way forward” IEJ Working Paper. [Online] Available [online]: iej.org.za.
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While many strides have been made in providing access to basic infrastructure since
1994, such as in electricity and water, a number of criticisms are levelled against the
efficacy of the infrastructure development. First, these infrastructure developments have
not managed to reach large areas of South African rural areas that lack access to basic
services. Public services and infrastructure are more developed in urban areas than in
rural areas, where many of the poorest households reside. A key reason for under-
development in rural areas is a result of South Africa’s history in which areas inhabited
by Black people were systematically underfunded.
Second, despite infrastructure’s salience in post-apartheid economic policy, public
infrastructure expenditure has progressively declined since the early 1980s (see Figure
3.1).49 This is also true of recent years. Between 2014 and 2018, the average real spend
on infrastructure by general government (that is, national, provincial, and local
government) declined by an average of 0.8% year on year.50 In 2016/17 and 2017/18,
total infrastructure spend amounted to R249 billion and R216 billion respectively,
reflecting a 13% reduction.51 The average infrastructure spend by state-owned
enterprises has also declined by an average of 4.9% year on year between 2014 and
2019. In addition, the construction sector has shrunk considerably over the past decade
and is expected to contract by 14.2% in 2020. South Africa’s 123 provincial government
departments recorded a decrease in infrastructure spending – referred to as capital
expenditure – of almost R2 billion in 2018/19. This represents a fall of 5.4% compared
with 2017/18. At the municipal level, infrastructure spend has also declined, despite
slight increases in the local budget between 2016 and 2019. Municipalities who rely on
revenues from user-fees have reported consistent under-payments from users unable to
afford fees for basic services. These declines are shown in Figure 3.2.
49 “Infrastructure” is defined broadly, including spending on new assets; replacements; maintenance and
repairs; upgrades and additions; and rehabilitation, renovation and refurbishment of assets. Capital and interest payments are also included in the definition. In contrast, “capital spending” typically excludes maintenance and finance charges.
50 South African Treasury – Budget Review, 2020. 51 National Development Plan, 2010. Chapter 4: Economic Infrastructure. Available [Online]:
https://www.nationalplanningcommission.org.za/assets/Documents/NDP_Chapters/devplan_ch4_0.pdf.
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FIGURE 3.2: PUBLIC-SECTOR INFRASTRUCTURE ESTIMATES, 2016-2019
Source: National Treasury, 2019.
Third, greater emphasis on large-scale infrastructure projects has resulted in financing
being directed towards more profitable areas of infrastructure, termed economic
infrastructure, such as in transport and energy, and less on more social infrastructure,
such as in healthcare and education infrastructure.52 This has implications for the
potential of the current infrastructure drive in reaching less-developed areas that need
infrastructure the most.
Fourth, key SOEs have not maintained existing infrastructure as a result of corruption
and poor financial management.53 Bailouts for SOEs have become an increasing liability
to the fiscus, despite the importance of SOEs in providing essential services. In 2018
alone, government guarantees to SOEs increased by R51.5 billion to bailout key SOEs
such as power utility Eskom, and the national carrier South African Airlines.
Government investments in health, education, and human settlements infrastructure
have been low, compared to other sectors, despite new investments and maintenance
deficits in all three. Figure 3.4 disaggregates infrastructure spend according to the
various types of infrastructure. Infrastructure in energy has steadily declined over the
52 UNCTAD, 2019. “Trade and Development report – Financing a Global New Deal.” Online [Available]:
https://unctad.org/system/files/official-document/tdr2019_en.pdf. 53 Submission for the Division of Revenue 2016/2017. [Online] Available:
https://static.pmg.org.za/150923division.PDF.
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2016-2019 period owing mostly to the inability of Eskom to address its financial and
operational issues. Public healthcare facilities are ageing, and not are not maintained
adequately. There is also disparate access to health facilities, owing mostly to the lack
of quality health facilities in informal and rural areas; according to the 2017/18 National
Education Infrastructure Management System (NEIMS) Report, 269 schools in South
Africa lack access to electricity.54 There are 8,702 schools with pit toilets – nearly half
have installed new toilets but have yet to decommission the old dangerous – ones. This
is all compounded by the spatial inequalities, which remains a key barrier to access to
quality infrastructure.
FIGURE 3.3: PUBLIC EXPENDITURE PER SECTOR (R’ BILLION)
Source: National Treasury, 2019.
As public investments in infrastructure declines, the private sector has been called to
bridge the financing gap. During the early years of democracy, infrastructure expenditure
by general government was financed mostly through current revenue.55 The investments
in infrastructure by public enterprises was financed predominantly by user chargers
(profits) and non-tax income. Given the fall in infrastructure investment from the early
54 Department of Education of South Africa, 2018. “National Education Infrastructure Management report.
Online [Available]: https://www.education.gov.za/Portals/0/Documents/Reports/NEIMS%20Report%20%2020172018.pdf?ver=2018-01-30-120305-787.
55 Calitz and Fourie, 2010. “Infrastructure in South Africa: Who is to finance and who is to finance?” Development Southern Africa, Taylor & Francis Journals, vol. 27(2), pages 177-191.
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1980s, shown in Figure 3.1, the private sector has played a greater role in providing
finance for infrastructure, becoming a key investor.56 The impact of the global financial
crisis, leading to fiscal reforms – such as debt stabilisation –deepened the government's
reliance on private investments in infrastructure as the public budget was squeezed,
however, the scale of expected private investments was never reached. GDP growth in
2009 was at -1.5% and infrastructure investment was used to play a counter-cyclical role
in the economy. In order to do this the government took on more financing from external
sources, particularly loan financing from DFIs and private investors. Greater emphasis
was placed on PPPs in meeting the infrastructure challenges, however, this struggled to
take off at the expected rate. For example, Futuregrowth, a fixed income investment
company, argue that the reasons for lacklustre investments is not a result of regulatory
challenges in PPPs, but in the lack of feasible, bankable projects, high macroeconomic
risks (driven by a growing debt level), and a weak policy environment.57
In its newest drive for closing the infrastructure deficit in South Africa, the government
has placed a prominent role for private sector financing through the Infrastructure Fund.
The Fund’s implementation unit, housed within the Development Bank of Southern Africa
(DBSA), will facilitate and “speed up the development of projects and programmes”.58
The unit aims to build a pipeline of potential projects worth over R1 trillion over the next
ten years. According to an official document on the implementation of the Infrastructure
Fund, tabled at the Sustainable Infrastructure Development Symposium (SIDSS) held in
June 2020,59 the Fund emphasises the following as criteria for projects:
Be large. According to the document, this is because ‘the preparation costs for
blended-finance projects are prohibitive for small projects and large-scale
investment is being targeted’.
56 Mlambo, V. and Mpanza, S. 2020. “Infrastructure Provision as a Catalyst for Local Economic
Development in South Africa”. Strategic Review for Southern Africa, Vol 42, No 1. May/June 2020. 57 Manga, T., 2019. “Infrastructure development: What, Why, How and Who?” Futuregrowth
comprehensive guide on infrastructure development. Available [Online]: futuregrowth.co.za/newsroom/infrastructure-development-what-why-how-and-who/.
58 Joint media statement: National Treasury, Department of Public Works and InfrastructureInfrastructure South Africa, and Development Bank of Southern Africa. Memorandum of Agreement: DBSA’s mandate to establish and manage the infrastructure Fund. [Online] Available: http://www.treasury.gov.za/documents/National%20Budget/2020/review/Annexure%20D.pdf.
59 See https://www.tralac.org/documents/news/3777-sustainable-infrastructure-development-symposium-south-africa-sidssa-23-june-2020/file.html.
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Be suitable for blended financing, with clear and predictable cash flows,
sufficiently attractive risk profiles for investors, and the need for some financial
support from the government.
Mobilise private-sector skills and resources.
Be aligned with the government’s infrastructure priorities.
Be scalable and replicable.
The Fund has a clear development mandate, and should therefore be scrutinised as
such. In his announcement of the infrastructure-led economic plan, President Cyril
Ramaphosa mentioned that the Fund has already mobilised R340 billion for 276“catalytic
projects” to help “transform rural areas, townships and cities and, in turn, fast track
investment”.60 It is argued by the government that through increasing private-sector
investment in public infrastructure, the Fund will contribute to higher economic growth,
productivity, and employment creation. These, and other social objectives, must
therefore be considered when assessing projects initiated or supported by the Fund.
The allocation of projects through the fund includes projects in human settlements,
transport, water and sanitation, and energy. Figure 3.4 shows the latest sector
allocations of blended projects that have been gazetted and approved. The largest
allocation is in human settlements (71 projects) and transport (64 projects). Interestingly,
energy projects feature as a smaller number of projects, despite having the greatest
investments for blended finance internationally; this is because Eskom’s debt remains a
key factor in crowding out further investment in energy infrastructure.
60 Bhengu, C., 2020. “From jobs to the Covid-19 grant – five key takeaways from Ramaphosa’s recovery
plan.” TimesLive. Online [Available]: https://www.timeslive.co.za/news/south-africa/2020-10-16-from-jobs-to-the-covid-19-grant-five-key-takeaways-from-ramaphosas-recovery-plan/ (Accessed: 19 October.
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FIGURE 3.4: SECTOR ALLOCATION OF BLENDED PROJECTS SUBMITTED AND APPROVED
Source: SIDSSS, 2020.
*Other includes 11 environmental, 1 tourism and 1 mining
3.2 A CRITICAL ASSESSMENT OF DE-RISKED INFRASTRUCTURE
PROJECTS
This section unpacks the key issues that arise from de-risked infrastructure, using a
framework that assists in understanding the potential effects of these financing models.
It finds that infrastructure development is important for South Africa’s economy – it has
the potential to increase employment and provide access to critical infrastructure,
particularly in areas that have not historically received sufficient funding. The private
sector should play a role in providing this critical infrastructure. However stronger
governance and regulatory oversight must be put in place to minimise costs to the fiscus
and the economy. Given that de-risking infrastructure is about taking on a greater share
of risk, the concern is that the government will take on a much larger share of risks to
supplement its lack of financing in this area, which will have severe cost implications if
not managed appropriately.
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3.2.1 COSTS AND FISCAL IMPLICATIONS
De-risked infrastructure finance is often justified on the grounds that there is limited
public resources to finance large, long-term infrastructure projects at the level that is
required to spur economic development. Fiscal budgets are even more constrained in
the context of fiscal consolidation where budget items like infrastructure, particularly
social infrastructure, are cut. This section argues that de-risked infrastructure has the
potential to be more expensive than traditional public financing, as the government takes
on more risks on behalf of the private sector. We explore this through additionality,
transaction and project costs, and contingent liabilities.
3.2.1.1 ADDITIONALITY
Additionality is central to claims of ‘impact’ by DFIs and other public investments in using
de-risked instruments, particularly blended finance. The OECD refers to additionality as
‘key to demonstrating the rationale for blending’61. Additionality is defined as showing
that public financing is necessary to solve a market failure (like a lack of quality
infrastructure) by providing capital, risk mitigation and other benefits to a market that is
not delivering these services through private actors.62 Additionality implies that any DFI
(or any other public investment) financing towards a project would be additional, and not
a substitute, for private financing.63 More concretely, given the focus on bankability of
the Infrastructure Fund, it is necessary to show why private capital requires public
financing for them to invest in the first place. Perierra (2017) provides a useful distinction
between financial additionality and development additionality:
Financial additionality: de-risking the project with public finance is necessary to ensure
it gets finance and can be implemented.
Developmental additionality: de-risking helps the project achieve development
results.
61 OECD workshop report, 2018. “The next step in blended finance: addressing the evidence gap in
development performance and results”. Online [Available]: https://www.oecd.org/dac/financing-sustainable-development/development-finance-topics/OECD-Blended%20Finance-Evidence-Gap-report.pdf.
62 Kenny, C. and Moss, T. “What to do when you can’t prove DFI additionality.” Centre for Global Development. Online [Available]: https://www.cgdev.org/publication/what-do-when-you-cant-prove-dfi-additionality.
63 Muller, 2017. Ibid.
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The two types work in tandem, as without evidence of development impact, the public
sector is unnecessarily spending on de-risking mechanisms that are not beneficial to the
economy. Without evidence of financial additionality, the private partner is crowding-out
other potential sources of financing, such as loan financing, that could have potentially
been provided at a lower cost.
While demonstrating development additionality will not be difficult in the context of South
Africa, which has high infrastructure needs, proving financial additionality is more
difficult. The key risk that this poses is in the bidding processes. Low competition rates
in tender biddings constrains the governments’ ability to choose the least-cost option
with the most appropriate developmental impact. For example, in the case of blended
finance instruments, without a competitive process private firms are incentivised to inflate
their required possible subsidy to participate in a project. This results in higher costs to
the state than necessary. If there is a clear public sector commitment to pursue private
investment for budgetary and/or accounting reasons (as opposed to pursuing value for
money), then the private sector might create an excessive expectation for public de-
risking support even when it is not warranted.
3.2.1.2 HIGH TRANSACTION AND PROJECT COSTS
All large-scale infrastructure projects, regardless of types of financing used, entail high
transaction costs linked to the risks associated with undertaking the project. In the case
of de-risked infrastructure, it is expected that the government will take on more project
risks than in traditional publicly-financed infrastructure by supplementing costs
associated with transacting with the private sector, such as feasibility studies,
guarantees, and subsidies. Large-scale infrastructure projects also have large costs
associated with negotiating, preparing, and managing projects.
Poor project planning and selection can trigger unexpected costs throughout the long
time-frame of the project. An example of the potential of large costs shouldered by the
government is the PPP to build and operate prisons facilities in Bloemfontein and Louis
Trichardt in 2002. While both prisons were fully operational within two years, the cost to
the government was over double the expected amount (over R2 billion at the time of
contracting). This was because of improper feasibility studies that established
affordability limits prior to procurement. Given the difficulty of assessing a counterfactual
to this scenario – whether the public sector would be more efficient at providing prisons
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– it is important to also consider strengthening state capacity in providing infrastructure,
regardless of the share of funding between public and private.
3.2.1.3 CONTINGENT LIABILITIES
Contingent liabilities are guaranteed payments to the private investor to compensate
them in the event that the circumstances of the project materially change.64 For example,
if the contract is terminated before its expiry date or if the demand for a service falls
below a certain level, or if costs are not recouped and the private investor fails to make
a profit. Despite the potential for this unforeseen cost, this risk is generally accepted
because it is not recorded on the official budget until payment is triggered by the event
occurring. This allows governments to circumvent large budgetary costs in the short
term.65
Contingent liabilities have the potential to undermine national macroeconomic policy and
cause significant economic harm when they come into effect. The promise to pay the
private party is often of a greater amount than what it would cost to just invest through
public means. A leading example is a PPP set up in Lesotho to build the Queen
Mamohato Memorial Hospital. The project was financed through a mix of private and
public funds. The government of Lesotho invested $58 million in direct finance, while the
private sector consortium invested $475 million in equity capital, plus a $95 million loan
from the public Development Bank of South Africa (DBSA). The government guaranteed
compensation in the event that the private partner defaulted on its loan repayments. A
2014 report by Oxfam showed that the total contingent liabilities cost about 51% of the
total health budget and cost the government three times more than what a public-funded
hospital would have cost.66
Contingent liabilities arise with more de-risked financing instruments, particularly for
large-scale projects that have a developmental mandate. The probability of contingent
liabilities materialising is high for blended finance instruments in a context where
64 Sfakianakis, E. and van de Laar, M. 2012. “Assessing contingent liabilities in public-private
partnerships (PPPs).” UNU-MERIT Working Papers. Online [Available]: https://www.researchgate.net/publication/254405697_Assessing_contingent_liabilities_in_public-private_partnerships_PPPs/link/54d8c3a40cf2970e4e78dc73/download.
65 Romero, 2018. Ibid. 66 Oxfam, 2014. “A dangerous diversion. Will the IFC’s flagship health PPP bankrupt Lesotho’s Ministry of Health?” Oxfam Briefing note. Online [Available]: https://oi-files-d8-prod.s3.eu-west-2.amazonaws.com/s3fs-public/file_attachments/bn-dangerous-diversion-lesotho-health-ppp-070414-en_0.pdf
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commercial profits are difficult to obtain in key geographic areas of underdevelopment.
In addition, the more risks involved in the project, the more the government will need to
guarantee liabilities to the private sector. Large-scale infrastructure often has more risks
involved and projects such as roads in rural areas, water, or sanitation will yield little or
no commercial income, leaving the state to pick up the bill for repayments.
All infrastructure projects carry some level of project risk, regardless of who is financing
it. The question then becomes what level of risk the government will absorb, over and
above the normal risk level, in its efforts to attract private investment. The next section
will unpack the risks, other than fiscal, involved in projects that have blended elements.
3.2.2 ASSESSING RISKS
The fair allocation of project risk is important for the success of infrastructure projects.
The literature on de-risking mechanisms generally recommends that the risks should be
allocated to the party best able to bear them.67 Supporters of de-risking argue that one
of the key reasons why private sector participation in infrastructure in South Africa is low
is because of the high risks and low returns associated with investing in infrastructure.
These risks range from political instability to macroeconomic risks like inflation or interest
rate increases. Thus, the purpose of de-risking mechanisms, such as PPPs and blended
finance mechanisms, is for the government to mitigate and/or compensate for these
potential risks to make it more attractive to private investors. However, de-risking
infrastructure implies that the public sector will absorb a greater share of risk than usual
to boost private capital. Annex 3.1 shows a list of potential risks that often come with
large infrastructure projects.
One area of risk that is particularly contentious is demand risk, the risk that revenue will
not be consistent throughout the life of the project.68 Blended finance in the form of
subsidies, grants, or guarantees to compensate for demand risk generates considerable
financial implications for the public sector. This risk is applicable to South Africa, which
has high levels of unemployment, and low incomes, that make it difficult for the
67 OECD, 2012. “Infrastructure Financing instruments and incentives.” Online [Available]:
http://www.oecd.org/finance/private-pensions/Infrastructure-Financing-Instruments-and-Incentives.pdf. 68 Romero, M.J. 2015. “What lies beneath? A critical assessment of PPPs and their impact on
sustainable development.” Report by Eurodad. Online [Available]: http://d3n8a8pro7vhmx.cloudfront.net/eurodad/legacy_url/648/1546450-what-lies-beneath-a-critical-assessment-of-ppps-and-their-impact-on-sustainable-development-1450105297.pdf?1594238244.
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government to guarantee revenues through user-generated revenue. Important lessons
can be drawn from international experience in this respect. In Korea, the government
provided a revenue subsidy to guarantee a minimum level of revenue, mainly to transport
PPP projects. By 2011, the total government burden for 36 projects with minimum
revenue guarantees was estimated at some $2.6 billion.69 A good illustration of these
dynamics is the Gautrain rail-link system, a PPP which generates revenue mainly from
user fees and where the public sector has also assumed contingent liabilities related to
user demand.70 The Gautrain project is the most expensive public transport project in
South Africa, after exceeding R20 billion in costs in 2009. Despite the relatively high user
fees of the Gautrain (an average of $20 dollar per standard one-way train ticket), it is
estimated that the average revenue the public sector covers is upwards of R250 million
per year, which has required payment in every consecutive financial year (19 years to
date).71
The private sector might also ask for measures to mitigate political and regulatory risk,
through the provision of guarantees to ensure compensation in the event that the political
or regulatory framework changes. However, such guarantees reduce the capacity of
governments to respond to new information and introduce regulation measures that can
create fair competition with other private sector companies. Environmental risks that
have not been dealt with before procurement, or demand risk that the private company
cannot manage, are examples of unexpected risks that will increase the costs of de-
risked projects.
Another concern is the moral hazard problem involved with the private party assuming
less risk. This means that the less risk the private sector has, the less it has to lose from
poor performance. The private actor is therefore, potentially, not adequately incentivised
to perform on a contract. The government has a duty to ensure the provision of a basic
level of services, such as healthcare, clean water, or basic education, in fulfillment of its
human rights obligations. Therefore, it is responsible for ensuring that the partnership
works. This means that if a project goes wrong the government has to rescue the project
69 Romero, 2018. Ibid. 70 Aldrete, R. Bujanda, A. and Valdez-Ceniceros, G.A. 2020. “Valuing public sector risk exposure in
transportation public-private partnerships”. Finale report for the University transportation centre for mobility. Online [Available]: file:///C:/Users/phalatses/Downloads/dot_18385_DS1.pdf.
71 Thomas, D. P. 2013. “The Gautrain Project in South Africa: A Cautionary Tale”. Journal of Contemporary African Studies, 31(1):77-94.
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in order to fulfil its public-service obligations. This means that the public sector often
needs to support the private company or renegotiate the deal to prevent project failure.
If the project fails spectacularly, for example, running up large debts, the government
might end up bailing it out. This means that private debts will get transferred to the public
sector and ultimately to taxpayers.
The water PPP concession between the Kwa-Zulu Natal province and a private partner,
Siza Water, shows the complexities of risk sharing agreements (see Appendix 3.2 for
detailed information about this project). The private partners in the concession made a
21% return on investment, despite losses made in the first six years of operation. On the
other hand, the price of water to consumers increased over this same period by up to
119%.72 In 2005, the concession entered its sixth year and while the PPP targets in the
wealthier areas were achieved, those in the poorer areas have not all been met. A study
by the Palmer Development Group (PDG) said that communities have expressed
considerable frustration at receiving a lower level of service than they expected.73
An issue with de-risked infrastructure investments’ potential to leverage private
investment is the lack of objective data, or empirical evidence, of its impact. This makes
it difficult to assess the risks of these investments and to understand how best to manage
them.74 Without this information, private investors, like institutional investors, will be
reluctant to make these allocations to de-risked infrastructure.
3.2.3 POVERTY REDUCTION AND SUSTAINABLE DEVELOPMENT
OUTCOMES
Infrastructure is important not for its own sake, but rather, to support various kinds of
economic activity. In this way, more quality infrastructure is needed to increase
employment, and provide low-cost access to essential services, such as electricity and
water. As noted above, the Infrastructure Fund has a clear mandate to create
72 Farlam, P. 2005. “Assessing Public-private partnerships in Africa” SAIIA’s Nepad and Governance
Project is funded by the Royal Netherlands Embassy, Pretoria. Online [Available]: https://www.saiia.org.za/wp-content/uploads/2008/04/aprm_boo_farlam_ppps_2006.pdf.
73 Ibid. 74 OECD, 2014. “Pooling of institutional investors capital – selected case studies in unlisted equity
infrastructure”. Online [Available]: https://www.oecd.org/finance/OECD-Pooling-Institutional-Investors-Capital-Unlisted-Equity-Infrastructure.pdf.
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employment opportunities and reduce poverty over the next ten years. A key concern is
whether de-risked investments in infrastructure will lead to these outcomes.
Proponents of de-risked investments argue that the private sector has the requisite
capacity and skills to efficiently provide public services. However, experience has shown
that de-risked investments come with different challenges in delivering sustainable
development outcomes.
First, private investors tend to invest in high-return infrastructure investments that usually
have a better business case. This has implications for the prioritisation of projects, as
profitable investments tend to be prioritised over less commercially-attractive projects
that may have greater development impacts. In addition, commercially-viable
investments usually serve areas and communities that are more likely to be able to pay
for those services. The Gautrain Railway Transport system, for example, was
predominantly financed with public funds and is accessible to mostly affluent people that
are able to afford its high ticket prices in order to meet liabilities made to private partners.
User affordability is essential in the assessment of development impacts. However,
getting the price right for users, particularly for the poor, is not an incentive for the private
participant. This means that mostly customers capable of paying have better access to
PPP infrastructure projects.
Second, de-risking private participation in infrastructure has long-term implications for
infrastructure spend that crowds-out non-infrastructure-related investments. To de-risk
infrastructure, the government will engage in long-term contractual rights to income
streams for the private investor. This government is therefore legally constrained from
reducing payments to these projects. In the context of budget cuts, reductions in
spending are concentrated on non-PPP areas. This has important, and detrimental,
developmental outcomes.
Finally, the impacts of de-risked infrastructure on the environment requires more
research and systematically considered for institutions and project promoters. In the
case of PPPs, the International Institute of Sustainable Development finds that
“environmental and social safeguards are yet to be built into the PPP landscape”.75
According to their research, “the focus needs to move away from conducting
75 Colverson, S. Perera O., 2019. “Sustainable development: Is there a role for public-private partnerships” IISD Policy Brief. Online [Available]: https://www.iisd.org/system/files/publications/sust_markets_PB_PPP.pdf
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environmental impact assessments as purely a part of the licensing and construction
permit requirements, and towards integrating sustainability across the PPP life cycle”.
Some projects within the Infrastructure Fund portfolio are already mired in environmental
issues. The Mokolo-Crocodile Water Augmentation Project, projected to cost R12.4
billion, has ceased construction because of appeals made by civil society organisations,
Earthlife Africa and Groundwork, citing potential detrimental environmental impacts on
local communities and the surrounding environment.76
All information, including social, environmental, and governance standards, contracts,
subcontracts, investment and partnership agreements, should be available to the public
and, in particular, affected communities. The next section will outline the potential
governance issues that arises from de-risked infrastructure.
3.2.4 GOVERNANCE
Governance of de-risked instruments will be more complex because of the extensive,
complex due diligence of various stakeholders required to be undertaken with private
partner, compared to traditional public procurement projects.77 This due diligence
extends to putting in place measures that regulates the activities of private sector
partners. Experience of corruption in South Africa necessitates a regulatory framework
that sets clear guidelines and structures to safeguard the interest of citizens and the
limited public funds. A high level of transparency and citizen engagement is needed
throughout the whole project process to avoid project mismanagement and corruption.
For de-risked infrastructure investments, the public sector will often be responsible for
preparation, negotiation, and administration of the contracts, and for monitoring and
evaluating contract performance during the construction and operation phases of the
project.78 Evaluations of de-risked instruments, including those from the World Bank and
the OECD, stress the importance of capacity at the country level to negotiate and
76 See https://www.engineeringnews.co.za/article/work-wont-start-on-next-phase-of-mokolo-crocodile-
transfer-scheme-until-eia-appeal-finalised-2019-08-02 and https://constructionreviewonline.com/news/south-africa/works-on-phase-2a-mokolo-crocodile-water-augmentation-project-stalls/.
77 Romero, 2018. 78 OECD, 2015. “Blended finance vol.1: A primer for development finance and philanthropic funders.”
Online [Available]: http://www3.weforum.org/docs/WEF_Blended_Finance_A_Primer_Development_Finance_Philanthropic_Funders.pdf.
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manage contracts for the success of these projects.79 However, this capacity is not
strong in South Africa. The 2018 Medium-Term Budget Policy Statement (MTBPS)
acknowledges that weak project preparation, planning, and execution has resulted in
lengthy delays, over- and underspending and problems with quality infrastructure. This
has often been ascribed to lack of proper planning and design before construction
commences. In the MTBPS, government attributed the planning problems to a lack of
technical expertise and institutional capacity.80
In addition, the major contributor to disappointing infrastructure project outcomes is a
result of inappropriate procurement practices and absences of delivery management. A
background paper commissioned by the South African National Planning Commission
on public infrastructure delivery identifies a lack of governance and poor procurement
and delivery management practices as one of the key causes of project failure and poor
project outcomes. It is essential that processes are put in place to ensure these
governance issues are resolved, however there is a lack of publicly-available information
to assess this.
In addition, a key principle for the good governance of infrastructure is that the
government publicly consults a broad range of stakeholders in the processes.
Infrastructure development has substantial implications for citizens, and they should
have equal access to information as financial investors. To date, however, the
implementation of the Infrastructure Fund has not pro-actively engaged trade unions,
local communities, and civil society organisations in its decision-making processes.
The next section will provide recommendations to potentially reverse and the concerns
highlighted. It argues for a governance framework that entrenches transparency and
accountability at all levels of project development.
79 Ibid. 80 National Treasury. Medium Term Budget Policy Statement 2018.
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4 CONCLUSION AND RECOMMENDATIONS
The above analysis highlights a series of very serious risks that are faced when
governments attempt to increase the role of private financing in infrastructure provision.
South Africa has and will continue to face all of these.
Fundamentally, government and its partners must maintain developmental goals as the
primary purpose of infrastructure investment, and not set out to primarily establish a
business-friendly environment. The current narrative surrounding the Infrastructure Fund
overlooks key historical failures in ‘mega-projects’ that can, and have been, socially and
environmentally damaging. Infrastructure development must seek to close critical gaps
in both social and economic infrastructure provision. With regards to economic
infrastructure, the need for structural transformation of the economy must not be
overlooked. This would entail a shift away from the economy’s reliance on fossil fuels
and industries such as mining and commodities, towards greater diversification,
especially in industries that are not carbon-heavy and are employment-creating. This
may not correspond with the interests of private capital. Nevertheless, infrastructure
development must drive sustainable development and the government must take a
leadership role this regard. To ensure that infrastructure-led development serves these
objectives, we recommend to relevant stakeholders and policymakers that:
State responsibilities should not be transferred to private parties. The
governments’ responsibility for meeting obligations on human rights, poverty
reduction, and gender-transformative services, as stipulated in the Constitution
and key policy documents such as the NDP, must not be transferred to private
corporations, who are concerned primarily with making profits.
Private sector involvement must be justified. A publicly available assessment
indicating clear benefits of having private involvement for all projects in the
Infrastructure Fund must be undertaken where relevant.
The financing mechanisms chosen to deliver social services and
infrastructure should be assessed for their ability to ensure cost-
effectiveness, accessibility, and quality gender-transformative services.
The government must build an evidence base that considers impact on both the
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expansion of coverage (quantity) and on the affordability, accessibility, and
appropriateness (quality), at all stages: design, implementation, monitoring and
assessment in all projects.
Policymakers must seriously consider and implement maximising
domestic resource mobilisation. To ensure governments have a genuine
choice in finding the best financing mechanism for infrastructure investments,
policymakers promoting infrastructure funding should support the prioritisation of
progressive taxation at the national and international level, curb illicit international
flows, and provide long-term concessional finance and loans from key DFIs.
Enforce strict governance framework. Governments and international
financial institutions must enforce a strong regulatory framework requiring
periodic evaluations in relation to environmental, social, human rights, and
gender equality standards for de-risked investments, particularly when working
with the private sector. Compliance with local and international human rights
standards should be built into contracts. These governance frameworks must
also be developed with the public.
Enforce strong accountability mechanisms. International financial institutions
and governments must ensure that rigorous transparency standards are applied
to ensuring transparency and accountability in all de-risked projects. This
includes accessible accounting of public funds, and disclosure of contracts and
performance reports. Broad civil society participation, before and during project
implementation must be encouraged. Governments, and DFIs, must ensure that
all claims about private finance mobilisation are verifiable and not over-estimated.
Ensure that all relevant public and private actors involved in infrastructure
carry out human rights due diligence to inform and improve decision-
making.81 For example, a comprehensive, publically available, appraisal of
prospective private partners, especially showing that potential partnerships are
not harmful to the economy. This is to ensure that projects safeguard against
detrimental social and environmental outcomes.
81 Office of the UN High Commission for Human rights, 2020. “The other infrastructure gap: sustainability
– human rights and environmental perspectives”.
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Target domestic companies as a preferred option. To ensure greater
development impact, priority must be given to local private enterprises and to
local content requirements within contracts. There is a danger that international
DFIs, fund managers, and other institutions may use de-risking mechanisms to
entrench tied-aid, the practice of favouring a funder country’s own businesses,
consultants and service providers to execute DFI-funded projects.
Ensure no undue risk transfers to the public.82 With the on-take of greater de-
risked mechanisms, all fiscal risks must be fully accounted and provisioned for
and must not exceed reasonable amounts (for example, the amounts commonly
put at risk by publicly-owned development and investment banks).
In this paper we have outlined the potential risks of the financing mechanisms proposed
in the newly established Infrastructure Fund, and economic policy more broadly. While
infrastructure development in South Africa is much-needed, the emphasis on de-risking
for private sector buy-in overshadows the key role the state must play in leading on
structurally transforming the economy. However, current fiscal consolidation measures
undermine the governments’ ability to do this, and instead has opened the economy to
the fiscal risks associated with greater private sector participation. The current narrative
around the Infrastructure Fund also overplays the benefits of private capital and
underplays the potential risks that come with public-private arrangements. It
underestimates the complexities of governing these relationships appropriately and
thereby fails to establish the necessary frameworks for maximising the developmental
impact of infrastructure investment and limiting the risks to the public sector. This must
be urgently rectified.
82 Muller, 2018.
5 ANNEXURES
ANNEX 3.1: EXAMPLES OF RISKS INVOLVED IN PROJECT IMPLEMENTATION
Type of risk Description
Political and regulatory risks
Procurement of
permits (land,
construction,
environmental)
Obtaining the necessary land, construction or environmental
permits might prove costlier or take longer than expected, thus
increasing costs.
Contract
renegotiation
The risk of a public authority forcing renegotiation of contracts,
thereby changing the financial arrangements of the original
project.
Asset transfer The feasibility and cost of transfer of the asset at the end of the
contract agreement. The risk that an asset could become
“stranded” due to changing government regulation or policy.
Enforceability of
contracts,
collateral and
security
This risk is closely related to the legal environment that is
associated with infrastructure finance such as PPP frameworks
and the enforceability of leases, concessions and other
contracted payment schemes.
Macroeconomic and business risks
Default of
counterparty
Default of any party involved in the project agreement,
including government, suppliers, lenders and insurers.
Liquidity risk The risk that assets won’t generate enough cash flow to
service debt payments and any other obligation. Also, the risk
associated with pricing assets where market prices are not
observable.
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Inflation risk The risk that aggregate prices increase in an economy and the
asset is exposed to rising prices in a detrimental manner. The
risk that the replacement cost of the asset increases over time.
Interest rates tend to be correlated with inflation, thus inflation
risk can be thought of as interest rate risk.
Real interest rate
risk
A component of nominal interest rates, an increase in real
interest rates translates to an increase in the real cost of
finance, which can strongly affect profitability.
Volatility of
demand/revenue
risk
The risk that the project company might fail to generate
sufficient demand (usage of facilities or service) at the
projected price of usage, ultimately leading to a lower level of
revenue than projected. Profitability can also be affected by an
unforeseen increase in costs.
Technical risks
Archaeological Additional costs might arise if archaeological discoveries (e.g.
historical sites, fossils, etc.) are discovered on the land
intended for construction.
Governance and
management of
the project
Failure to deliver and operate the project to the standards
agreed due to poor management or poor risk control
procedures.
Force majeure Risk of forces outside the control of any project participant and
affecting the proper delivery, operation and termination of the
project. This includes direct (physical damage) and economic
(loss of revenue) consequences from natural disasters, as well
as economic and political developments such as strikes and
armed conflicts. Force Majeure events might be defined in
insurance or risk-transfer agreements.
Termination value Since infrastructure assets are long-lived, any issues with
forecasting, particularly related to salvage values and
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depreciation of assets over time, can affect the expected
termination value of an investment. For PPP contracts where
the terminal value is zero, this is less of an issue. This risk can
be greater for owners of direct equity, such as corporations or
direct equity sponsors.
Qualitative deficit
of physical
structure/service
The risk that the project might not deliver the agreed output at
agreed conditions.
Source: ITF, 2018.83
ANNEX 3.2: PPPS IN SOUTH AFRICA AND CASE STUDY
The most common PPP arrangements in South Africa entail the private sector
performing a range of functions, including:
- Design, finance, build, operate and transfer (DFBOT) - 25 projects of this kind
have been completed in South Africa. Projects completed include water
concessions, hospitals and transport sectors.
- Design, finance and operate (DFO) - 4 projects have been completed, with a total
project value of R176 million. Projects are all in the transport sector.
- Design, build, operate and transfer (DBOT) - 2 projects completed, with a total
project value of R150 million. Projects are in hospital infrastructure and tourism.
- Equity partnerships - one project which transferred R75 million of equity for the
State Vaccine Institute.
Some of the notable infrastructure projects concluded through PPPs have been the
Gautrain railway, the Mbombela water and sanitation concession and the Albert Luthuli
hospital in Kwa-Zulu Natal. PPPs have received unequivocal support from the South
African government and are regularly promoted in annual policy and in budget and
83 ITF, 2018. “Mobilising private investment in infrastructure: Public financial support and uncertainty”.
OECD Working group paper. Online [Available]: https://www.itf-oecd.org/sites/default/files/docs/mobilising-private-investment-infrastructure.pdf.
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presidential speeches. They are considered an integral component of the state’s strategy
for economic development and job creation.
The National Treasury regulates PPPs through a specialised Unit established in 2000. It
is a dedicated PPP unit for national, provincial and local levels of government. It
evaluates and approves PPPs and provides active support throughout the process to
ensure affordability, value for money, and the appropriate risk transfer in the PPP cycle,
from its inception to eventual implementation. PPPs are also governed by the Public
Finance Management Act of 1999 (the PFMA), Treasury Regulation 16 of 2004, the
Municipal Systems Act of 2000 (the MSA), and the Municipal Finance Management Act
of 2003 (the MFMA). These are legislative frameworks developed to effect transparency
and accountability in procurement PPP projects.
Despite gaining widespread support for PPPs from both the private and the public
sectors, the uptake in South Africa has been lower than expected. As of 2019, 34 PPP
projects have been completed since the first project in 1998. This represents a total value
of R89.6 billion, only 2% of the total public-sector infrastructure budget estimate.
It is expected that the number of PPP projects will substantially increase over the next
few years, as the infrastructure reforms, which are fiercely in favour of PPPs, are
implemented. Processes are also currently underway to review the regulatory framework
governing PPPs to make them more streamlined and less complicated.84 PPPs financing
will also be made into asset classes for additional revenue streams made through trading
on the financial market, as discussed in Section 3.
Case Study: Ilembe water and sanitation concession
Type of PPP: Design, Finance, Build, Ownership, Transfer (DFBOT)
The Ilembe water and water services PPP is the first water and sanitation services
(WSS) Concessional arrangement involving the SA municipal government and a major
private provider of water, Siza Water. It was chosen because it involves the provision of
a social infrastructure project (water). It highlights the difficulties of private participation
84 Venter, I. 2020. “PPP legislation being reviewed to ‘make it more workable’, says De Lille. Engineering
News, 18 August 2020. Online [Available]: https://www.engineeringnews.co.za/article/ppp-legislation-
being-reviewed-to-make-it-more-workable-says-de-lille-2020-08-18/rep_id:4136.
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in water and sanitation access in the context of a low-income community, characterised
by high poverty and unemployment levels.
Background
The Ilembe water concession is a partnership between the Ilembe District municipality
and a private partner, Siza water company. The PPP project was entered into in 1999,
the same year that Siza was founded. At the time the agreement was signed, the Ilembe
district was characterised by high unemployment (about 39%) and about 75% of the
population did not have adequate access to water and sanitation. The concession area
covered several communities between 34000-40000 people at the time of incorporation,
and water users were from rural areas (majority), urban, residential areas, and industrial
businesses.
Direct investment by the Department of Water Affairs is valued at R130 million as of
2019.85
Structure of transaction
The PPP arrangement was a 30-year agreement in which Siza invested and maintained
water and sanitation infrastructure. However, they did not own the water supplies as it
was bought in bulk from a state-owned water board, Umgeni Water. Because of this,
Siza buys water from Umgeni and base tariffs are determined by Umgeni Water.
The contract also specifies that Siza can “charge each customer directly for the supply
of water services”, however tariffs must be determined by the water council, which
comprised of local government officials and community members.86
Key outcomes of the project
Uneven access to water - By its 6th year in operation (2005) the PPP had met all its
targets in wealthier areas, but failed to provide adequate access to poorer communities.87
Poorer households recorded high non-payment rates (about 60% non-payment rate in
85 Nation Treasury Budget Review, 2019. 86 Bayliss, K. 2016. “Neoliberalised Water in South Africa” FESSUD Working Paper Series, No24. 87 Robbins, G. 2004. “A water sector Public-Private Partnership case study: Ilembe District Municipality
(formerly Dolphin Coast) – Siza Water Company.” Online [Available]: http://sds.ukzn.ac.za/files/RR63.pdf.
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2005), triggering cut-offs by Siza. In the first year after Siza took over, there were 140
cases of cholera in the area as a result of people drawing unhygienic water from streams
rather than paying for treated water.
Uneven local profits - In the first 5 years of operation, Siza was not making a profit from
the concession (the project was not making a profit), however SAUR, the international
partners, received a 21% return on its investment from the first year of the concession,
which means was able to secure better terms for itself compared to its local partners in
Siza.
Tariffs hikes - Siza found itself unable to pay its concession fees in 2001, partly because
of a 20% increase in the cost of water charged by the bulk supplier, Umgeni Water. This
led to a substantial adjustment to the contract by the municipality, including halving the
annual concession fee to be paid to the municipality until 2006, which reduced the
investment commitments from the concessionaire, and increased prices for consumers.
Prices for low-income customers increased by 119% from pre-concession levels and the
volumetric water charge for level 2 users rose by 80% as a result.
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